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Surprises Among EM ETFs, Commodities in 2013

Not even full month into the new year and an arguably surprising theme has been seen with emerging markets ETFs that track nations viewed as raw materials plays. The theme being that some of these ETFs have shown little correlation to price action in the commodities traders view the ETFs as often being highly correlated to.

Interestingly, this theme is playing out to the advantage of some ETFs and to the disadvantage of others. Said differently, some emerging markets funds that have a reputation for being highly correlated to a particular commodity are outperforming that commodity by wide margins.

On the other hand, there is at least one noteworthy emerging markets ETF that has commodities correlation reputation that is lagging not one, but two of the commodities produced by the nation the fund tracks.

Additionally noteworthy is the fact that this is not a new theme. Nearly a year ago, the link between some some emerging markets ETFs and commodities was investigated and the intimacy is not always as high as some investors believe it to be. There is further evidence of that being the case again this year, starting with the...

iShares MSCI Chile Investable Market Index Fund (NYSE: ECH)
It is fair to say a lot of folks know that Chile is the world largest copper-producing nation. That leads to a simple thesis that Chilean equities and ECH are held hostage by Chinese copper demand. With the Chinese economy improving, the thought is copper prices should be rising and that should be good news for ECH.

To be sure, rising copper prices would be good news for Chile, but ECH only allocates 14.6 percent of its weight to material stocks. Two other sectors – utilities and financials – are more prominent within this ETF.

Here is the deal: Spot copper prices are actually slightly lower today than where they started the year. At the start of trading today, the iPath DJ-UBS Copper TR Sub-Index ETN (NYSE: JJC) was contending with a small year-to-date loss. On the other hand, ECH is up 4.5 percent to start 2013, easily outpacing JJC and the iShares FTSE China 25 Index Fund (NYSE: FXI) along the way.

iShares MSCI South Africa Index Fund (NYSE: EZA)
South Africa's status as a major gold producer, the largest platinum-producing nation and the second-largest palladium producer behind Russia means EZA is often viewed as a materials play as well. Indeed, its allocation to that sector is higher than ECH's at 17.6 percent, but that is barely more than the ETF allocates to consumer discretionary names and well below the fund's weight to financial services stocks.

Earlier this month, Fitch Ratings downgraded South Africa's long term foreign currency credit rating to BBB from BBB+, the long term local currency credit rating to BBB+ from A and the short term credit rating to F3 from F2, citing rising political and social tensions as reasons for the downgrade.

Those issues, among others, have pressured EZA this year as the fund is off nearly nine percent, including today's loss. That also means the ETF has shown no correlation at all to platinum and palladium. The ETFS Physical Platinum Shares (NYSE: PPLT) and the ETFS Physical Palladium Shares (NYSE: PALL) are up 7.8 and 4.7 percent year-to-date, respectively.

Here is why. Not only is Peru a major producer of gold, silver and copper, but that is accurately reflected within EPU as materials stocks represent over 49 percent of the ETF's weight. Since EPU reflects Peru's status as a major metals producer, the ETF has recently been sensitive to slack price action for some metals.

Since touching a new 52-week high on January 17, EPU has lost almost 4.7 percent, including today's loss. Over that same time, JJC is about flat while the SPDR Gold Shares (NYSE: GLD) and the iShares Silver Trust (NYSE: SLV) have both traded lower, indicating gold and silver prices may be weighing on EPU.

Interestingly, EPU recently moving lower in unison with GLD and SLV stands in stark contrast to what was seen among that ETF trio in 2012. Yes, all three closed the year in the green, but GLD and SLV offered nowhere the 16.5 returns generated by EPU. Specific to EPU, the commodities/ETF relationship is worth monitoring as 2013 unfolds. Peru is South America's fast-growing economy, but EPU may need the support of higher metals prices to deliver further upside this year.